Tax relief on pension contributions: plan of action

With the significant restriction to the availability of tax relief on pension contributions announced in the Budget, individuals and employers will need to find alternative strategies.

As a consequence, we anticipate people will need advice on three strands of activity: where relevant, some individuals will be taking steps to reduce income below the threshold limit of £150,000; tax efficient investments like Enterprise Investment Scheme (EIS) and Venture Capital Trust (VCT) will attract more interest; and the demand for advice from employers in relation to flexible employee benefit schemes will certainly see an increase.

It defies logic to have a situation where someone earning £149,999 receives much higher tax relief than someone earning £150,000 and it is contrary to the government’s simplified pension regime introduced three years ago. Nevertheless, it’s business as usual for those under that threshold.

For some it will be important to plan carefully to reduce the ‘relevant income’ applicable as it includes all income. Allowable deductions, such as a relievable pension contribution and Gift Aid donations, can help to reduce the relevant income below the crucial £150,000 threshold.

More generally, high net worth individuals will find that other tax efficient investment structures such as VCTs and EISs are increasingly attractive. This is especially true where there is no tax payable on returns from these investments.

An important and often overlooked consequence from the Budget is that employers are facing fresh challenges to keep their best performing employees incentivised.

One way of mitigating the expected drop in take home pay is to bring forward bonus payments and exercise share options before 6 April 2010. Employee share plans and employee benefit trusts will play a greater role in ensuring rewards are delivered in a flexible and efficient way.

Share-based structures can be designed to include any number of share or st ock options and be tailored for long and short-term incentives. Enterprise management incentive schemes, for example, allow capital gain on growth to be deferred. The increased disparity between income tax and CGT rates means that structures on which the prevailing CGT apply will prove increasingly popular.

The 2009 Budget has dramatically changed the UK taxation landscape, but the right strategy with good advice should ensure employers and individuals make the most of the options available.

Richard Phelps is head of advisory and financial solutions at Barclays Wealth Advisory